Long Call = Short Call =Max (ST K, 0); Long Put = Short

Put =Max (K ST, 0)

Effective price obtained with hedging = S2 + F1 F2 = F1 + b2
s
Minimum variance hedge ratio: h=
Hedge Effectiveness
F
2

h2 2s
F
h NA
P
N

Q
F
Optimal # of contracts,
Hedging Equity: A

R
Rc mln 1 m R m eRc /m 1

m m
Continuous Compounding:

Par yield,

(100 100d)m
A

RF R2 (R2 R1 )

T1
T2 T1
n

Bond Price,

B ci e yti
i1

R2T2 R1T1
Forward rate for period = T2 T1
BDy
B
1 y m

B
=D y +0.5 C ( y )2
B

ci e yti

D ti

i1
Duration,
Value of Forward Price:
1. Investment Assets: F0 = S0erT
I )erT
3. With known yield, F0 = S0 e(rq )T

2. With known income F0 = (S0

Value of Forward Contracts:

1. Value of Long Forward contract, = (F0 K )erT = Short
Forward contract
2. With known income of present value I, f = S0 I KerT
3. With known yield, f = S0eqT KerT
1. Futures price of stock index, F0 = S0 e(rq )T
(rrf )T

2. With foreign currency: F0 S0 e

3. With per unit time storage cost u, F0 = S0 e(r+u )T

4. With storage cost present value U, F0 = (S0+U )erT
5. With convenience yield, F0 = S0e(r+u y)T
Futures price and expected future stock price: F0 E(ST )e
Eurodollar Contract Value: 10,000[100-0.25(100-Q)]
1
Forward rate=Futures rate 2t1t2
2

(rk)T

Tailing the hedge:

hV A
VF

d=

360
(100 P)
n

Duration based number of Contracts to hedge,

PDP
FC DF

Vswap = Bf - Bfx,
BD S0BF
European
American
European
American

Bfl L

r1t1

Bfl (L K*)e

Bfx keriti Lerntn

call: c S0, c S0 Ke rT,

call: C S0, C S0 Ke -rT
put: p K,
p Ke -rTS0
put: P Kert, P K S0

i1

,Vswap =

c S0 D Ke
p D + Ke

Put Call Parity European: c + D + Ke -rT = p + S0

Put Call Parity American: S0 - D - K < C - P < S0 - Ke

-rT

-rT

-rT

S0